What New Vehicle Incentives Mean to Used Car Prices

It makes sense: incentivizing someone to purchase a car with cash, finance deals or lease deals reduces the price of that vehicle down the road. But just how much the different types of incentives impact used prices may surprise you.

A new vehicle cash incentive of $1,000 reduces the price of a one-year-old used vehicle by nearly $600, while $1,000 spent on finance and lease incentives reduces the price of that same one-year-old vehicle by $165 and $89, respectively.

If market conditions, such as the economy, time of year, level of supply, etc. and manufacturer suggested retail prices remain constant, an incentive of $1,000 on a model with no previous discounts would result in the price of a one-year-old version of the same model to fall by $563. For a three-year-old version and a nine-year-old version of the same model, the price would drop by $381 and $133, respectively. This pass-through effect means cash incentives continue to exert a sizable negative influence on prices far removed from more recent model years.

Not all incentives resonate equally with customers, so they don’t have an equal impact on used prices, either. In some cases, it’s more difficult for a consumer to translate the savings posted by finance or lease incentive compared to a cash incentive. As a result, the power to sway consumer demand and negatively affect used prices isn’t as great on these incentive types.

Currently, average spending for all incentive types is $2,574 per unit, down 12% from 2004’s peak and 2% below 2007’s pre-recession average of $2,631. While total incentive spending currently remains below pre-recession levels, it has ticked up by 3% compared to last year.

NADA expects that slower new sales growth and fiercer competition will see incentives rise modestly in the coming years, but we don’t foresee an imminent return to destructive levels of the past. You may remember when a toxic combination of heavily subsidized lease payments and grossly overestimated lease residuals occurred in the late 1990s and early 2000s. The resulting fallout cost the industry billions of dollars and caused numerous banks to cease leasing altogether, contributing to the used vehicle pricing decline.

Today, manufacturers have a much better understanding of how unreasonable incentive strategies depress used vehicle prices. The hard lessons of the past and the extraordinary amount of the time, cost and effort it has taken to rebuild new and used vehicle pricing power should minimize the risk of this occurring any time soon.

While NADA expects to see incentive spending increase moderately in 2014, a prudent discount mix and a commensurate rise in MSRPs will keep new vehicle transaction prices from falling. This, in turn, will mitigate downward pressure on used vehicle prices.